Thatcher v. Commissioner, Docket No. 3086-86
| Decision Date | 21 November 1988 |
| Docket Number | 4294-86.,Docket No. 3086-86 |
| Citation | 56 TCM (CCH) 707,1988 TC Memo 537 |
| Parties | Jean Thatcher v. Commissioner. Currier H. Thatcher v. Commissioner. |
| Court | U.S. Tax Court |
Stephen Charles Jones, 100 Pomona Mall West, Pomona, Calif., for the petitioner Jean Thatcher. Robert C. Summers, for the petitioner Currier Thatcher. Frank Bailey, for the respondent.
Memorandum Findings of Fact and Opinion
In separate notices of deficiency, respondent determined a deficiency in petitioner Jean Thatcher's 1981 Federal income tax in the amount of $12,850 and a deficiency in petitioner Currier Thatcher's 1981 Federal income tax in the amount of $14,226. After concessions, the issues for decision are: (1) What amount of the net income of Allied Dental Laboratory, if any, represents petitioners' community income; and, (2) if any amount of such income does represent community income, whether, pursuant to section 66(c),1 petitioner Jean Thatcher is relieved of liability for income tax on any of such community income.
Some of the facts have been stipulated and are so found. The stipulation of facts and exhibits attached thereto are incorporated herein by this reference.
Petitioners filed separate Federal income tax returns for 1981, the year at issue, and resided in Pomona, California, at the time they filed their petitions in these consolidated cases.
In 1981, petitioner Currier Thatcher ("Mr. Thatcher") managed and worked full-time as a dental technician for Allied Dental Laboratory ("Allied"), a sole proprietorship he established in 1957. In 1981, Mr. Thatcher and the five dental technicians he employed performed a wide range of dental services, including the manufacturing of false teeth for the patients of dentists in the Pomona Valley area. Mr. Thatcher had 35 years of experience as a dental technician and also had a very good reputation with the dentists in the community in 1981.
Mr. Thatcher's sole proprietorship held income-producing community assets that were a factor in generating Mr. Thatcher's sole proprietorship income. The community assets included various ovens and other miscellaneous machinery and equipment which were used in the process of manufacturing false teeth and other items.
On September 5, 1980, after 31 years of marriage, petitioner Jean Thatcher ("Mrs. Thatcher") filed a petition for legal separation from Mr. Thatcher. For all of 1981, Mr. Thatcher and Mrs. Thatcher were living separate and apart. On June 22, 1982, Mr. Thatcher and Mrs. Thatcher executed a Marital Settlement Agreement (the "Agreement"), the purpose of which was to divide all of petitioners' community and separate assets and provide for alimony to Mrs. Thatcher. In negotiating the Agreement, both petitioners and their respective divorce attorneys recognized that Mr. Thatcher, through his sole proprietorship, held income-producing community assets and that Allied, as a business, was to be treated and valued as a community asset.
In valuing Allied as a community asset, Mr. Thatcher hired an appraiser who capitalized Allied's average community earnings from 1977-1980 to arrive at a value for Allied as a community asset. In determining Allied's community earnings, the appraiser subtracted what he referred to as Mr. Thatcher's "owner's salary" from Allied's net income for each of the four years prior to 1981. In the appraisal report, it was noted that since "Mr. Thatcher is a primary producing technician as well as manager, his salary must be considered when computing Allied's actual community profit." The appraiser calculated an "owner's salary" for Mr. Thatcher of $26,000 in 1977, $27,768 in 1978, $32,406 in 1979, and $36,962 in 1980. As a sole proprietor, Mr. Thatcher did not have a "salary" per se as he was entitled to all income from Allied after paying all expenses associated with his business. Although the term is not defined by the valuation report, we find that "salary," as used therein, refers to the value which would be attached to Mr. Thatcher's services if he were employed by an unrelated third party as an employee. In calculating these figures, the report "assumed a 40 hour work week on an hourly salary of $12.50 for 1977." This 1977 "hourly salary" was used to compute a yearly "owner's salary." The 1977 "hourly salary" was then indexed upward each year utilizing a cost of living index. The report indicated that this was a "very conservative figure" for an "hourly salary" in 1977 for a dental technician.
A divorce attorney for each spouse conducted all of the property settlement and alimony negotiations culminating in the Agreement. Although recognizing that Allied held community assets, Mrs. Thatcher's divorce attorney assumed that all of Allied's 1981 net income represented Mr. Thatcher's compensation for his personal services to Allied. Believing this to be true, Mrs. Thatcher's divorce attorney concluded that such income did not represent community income. The treatment of this income for purpose of petitioner's property settlement was not addressed in the Agreement.
In the spring of 1982, when Mr. Thatcher's accountant prepared Mr. Thatcher's separate 1981 Federal income tax return, he estimated that of Allied's 1981 net income of $65,328, $22,664 represented the value of Mr. Thatcher's services to Allied taxable solely to him, and $42,664 represented community income. His accountant estimated the value of Mr. Thatcher's services without consulting Mr. Thatcher. As for the $42,664 purportedly representing community income, his accountant calculated that one-half of this amount ($21,332) was also taxable to Mr. Thatcher as his half-interest therein. In accordance with the above allocation of Allied's 1981 net income, only $43,996 of such income was reported by Mr. Thatcher as taxable to him. The remaining $21,332 of Allied's net income was not reported by Mr. Thatcher.
Prior to April 15, 1982, Mr. Thatcher did not inform Mrs. Thatcher that he took the position on his return that a substantial portion of Allied's 1981 net income was community income reportable by both spouses. In preparing her 1981 Federal income tax return, Mrs. Thatcher did not report any of Allied's income as her taxable income. She only reported her earned income from her employment as an administrative assistant with a recycling company and alimony income received from Mr. Thatcher.
Respondent has taken inconsistent positions and has asserted, alternatively, in separate notices of deficiency sent to each petitioner, that each petitioner is taxable on the $21,332 of Allied's net income which was not reported by either Mr. Thatcher or Mrs. Thatcher. That is, as to Mr. Thatcher, respondent determined that all of Allied's income represented his separate income taxable solely to him. On the other hand, as to Mrs. Thatcher, respondent determined that $21,332 of Allied's net income represented her share of community income as indicated by Mr. Thatcher's Federal income tax return.
OpinionA spouse residing in a community property state, such as California, has ownership rights in one-half of all of both spouses' community income and generally must report one-half of all such income when he files a separate Federal income tax return. United States v. Mitchell 71-1 USTC ¶ 9451, 403 U.S. 190 (1971); United States v. Malcolm 2 USTC ¶ 650, 282 U.S. 792 (1931). This is true regardless of whether he actually "receives" his share of such income. Kimes v. Commissioner Dec. 30,655, 55 T.C. 774, 782 (1971). Section 66(c) provides relief under certain circumstances to a spouse ("nonattributable spouse") who is liable for tax on community income that is "attributable" to the other spouse. If the conditions of section 66(c) are satisfied with respect to any item of community income then the unreported item of community income will be included entirely in the gross income of the spouse other than the nonattributable spouse.
Respondent's determination that each petitioner is taxable on $21,332 of Allied's income is presumptively correct. Groetzinger v. Commissioner Dec. 43,307, 87 T.C. 533 (1986). Each petitioner bears the burden of proving that respondent's determination is erroneous. Welch v. Helvering 3 USTC ¶ 1164, 290 U.S. 111 (1933); Wilmot Fleming Engineering Co. v. Commissioner Dec. 33,634, 65 T.C. 847 (1976); Rule 142(a). The fact that respondent has made inconsistent determinations as to both Mr. Thatcher and Mrs. Thatcher for the same deficiency does not destroy the presumption that respondent's determination is correct. Hoeme v. Commissioner Dec. 32,806, 63 T.C. 18 (1974).
The first issue is whether, pursuant to California community property law, any portion of the 1981 net income of Allied represents petitioners' community income. Mrs. Thatcher contends, first, that pursuant to California community property law, none of the 1981 net income of Allied represented community income. Mr. Thatcher counters and contends that $42,664 of Allied's 1981 net income represents community income of both petitioners, taxable one-half to each. Respondent's only concern in this case is that all of Allied's income be taxed to someone. Respondent, however, has taken no position as to the merits of either spouse's contentions.
California law provides that the "earnings and accumulations" of a spouse are the separate,...
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